Failure to Report §743(b) Basis Adjustment
As Tax Season #2 winds down (March 15th being Tax Season #1), we thought it would be interesting to pass on a compliance issue that was raised with us at the end of last week by one of our
Tax Forum attendees. It is not an uncommon occurrence that a tax preparer does not find out about the death of a partner before filing the tax return for the year that includes the relevant event. The preparer is then faced with what to do about the failure to make a §754 election (a topic that has been discussed on numerous occasions at the
Tax Planning Forum and beyond the scope of this email blast). This email blast involves a related issue – what to do when a tax return has been filed for a partnership that has a §754 election in effect and the preparer did not find out about the death of a partner and, therefore, no §743(b) basis adjustment was reported for the successor in interest. (As a consequence, the decedent’s K-1 reflected the decedent’s “share” of partnership items for the entire year, instead of up to the time of death.) The preparer finally found out about the partner’s death in the information provided by the estate for the tax return preparation for the next year. Now what?
Believe it or not, there is a regulation that addresses this issue – Reg. §1.743-1(k)(5), which contains the following interesting sentence:
If, following the filing of a return pursuant to this paragraph (k)(5), the transferee provides the applicable written notice to the partnership, the partnership must make such adjustments as are necessary to adjust the basis of partnership property (as of the date of the transfer) in any amended return otherwise to be filed by the partnership or in the next annual partnership return of income to be regularly filed by the partnership. At such time, the partnership must also provide the transferee with such information as is necessary for the transferee to amend its prior returns to properly reflect the adjustment under section 743(b). (Emphasis added.)
The use of the word “or” in the highlighted sentence suggests that the partnership might not have to file an amended return, but that it can provide the relevant information to the affected partner(s), so that such partner(s) can file their own amended return(s) for the year for which the §743(b) basis adjustment should have been reported.
In the situation for which we were consulted, a BBA partnership was involved and there were four affected partners. Needless to say, it would have been a royal pain for the tax preparer to deal with all this. However, the situation involved a partnership owning rental real estate that was generating losses, and the affected partners were not real estate professionals, nor did they have passive income from other sources. As a result, the extra depreciation provided by the §743(b) basis adjustment merely would have increased a §469 passive loss carryover for the affected partners. The solution – do not amend the prior year returns and have each affected partner increase the beginning passive loss carryover in the succeeding year. There is well-established authority in the net operating loss carryover and capital loss carryover arenas providing that the failure to report a loss that merely would increase a loss carryover does not require an amended return to be filed, and the beginning carryover in the succeeding year(s) just has to be adjusted. The reason – the IRS always can contest a carryover in the year it is eventually used. While we are not aware of any such authority in the §469 arena, we are comfortable that the same principle would apply. Needless to say, this solution put a smile on the face of the clients, because it was their error in not providing the information about the partner’s death to the tax preparer, and the clients would have had to pay for the cost of the amended returns.